These tax cut whispers are about to get louder

Bizarrely, abolishing the 50p rate remains top of the Chancellor's list.

With summer over, the skies are darkening in more ways than one. Economic forecasts, previously strong for this autumn, have long been heading south. Last week sharpened the sense of impending crisis. The FTSE has been shaken more violently than at any time since the paroxysms of early 2009. On Wednesday, unemployment stats took their biggest quarter-on-quarter leap since March 2009. The US and German economies are flat-lining.

Whatever your favoured explanation for our worsening economic plight, one thing is increasingly clear: the UK economy is propped up on pillows, in desperate need of a shot in the arm. It may not be fashionable to say it, but that shot needs to involve a pickup in consumption and domestic consumer confidence. Yes, that jars with the consensus narrative about the need to rebalance our economy towards exports and investment, away from domestic consumption. But in times like these there's no escape from the cold hard reality: household consumption still makes up two thirds of UK GDP. Whatever our need for medium-term rebalancing, domestic consumption will play the star role in either lifting the UK economy out of danger or pushing it over the edge.

You only have to look at the periods following previous recessions to see how far we are now wavering from the 'normal' path to recovery. Figure 2 in this recent blog post compares the four major recessions that have hit the UK in recent decades, looking at the path of household consumption from their onset. In each case, it was at around this point - 10 quarters on from the start of contraction - that the spark of consumer spending re-ignited. As would be expected following a "balance sheet recession"', our current path to recovery looks decidedly different. Today, consumer spending is not a rocket booster but a millstone.

This economic misery is being driven by the coincidence of two things: households are seeing their disposable incomes fall steadily in real terms at the same time as they continue to carry a massive burden of debt. That leaves them facing a stark choice. Either falling incomes mean less spending or households will have to eat into their savings or take on yet more debt. (New research from the Resolution Foundation out this week will confirm the startlingly poor savings position of Britain's low-to-middle incomes households and reinforces just how vulnerable millions of households are to any future rise in interest rates). Only a pick-up in real disposable incomes will gradually free us from this bind.

So how is this harsh economic reality set to play out in our politics? Amidst all the unpredictability, we can be confident about one thing: in the coming months the current Westminster chatter about tax cuts will become louder and more volatile. Expect arguments over timing, over who to target, the potential impact on consumer confidence and spending, and perhaps loudest of all, over how any cut could be paid for.

In macroeconomic terms, of course, any plausible move on tax will pale in comparison to the decisions the Bank of England makes on further quantitative easing. But in the context of a long squeeze on living standards, all political parties have long realised that the lure of a targeted reduction in taxes for at least some groups would eventually become irresistible. Deteriorating economic news may expedite this.

So what's on the agenda? Bizarrely, given the economic context, the abolition of the 50p rate remains top of the chancellor's list, with a review set to report in the autumn as cover for a move. Even leaving aside the glaring question of equity, there will be grave doubts about the economic wisdom of trying to stimulate the economy - however modestly - with a tax cut for the very richest. Whatever you think of the 50p rate (and polls show that the public think quite a lot of it) cutting taxes for those at the very top is more likely to see money flowing into high-end savings accounts and central London property. By contrast, tax cuts for the bottom half of the working population - in particular those low income households who are now spending every penny they earn - are far more likely to help the high street.

Of course, the chancellor must know full well that, on its own, a tax cut for the richest 1 per cent would be the final nail in the coffin of his claim that "we're all in this together". If that is Labour's hope, there is a good chance they will be disappointed. It's no surprise, then, to see recent Lib Dem briefings talking up the idea of reintroducing the 10p rate of tax, backed by a clear message that they want to support those struggling on low and middle incomes.

Such a move may seem far-fetched but it has a powerful political logic. Many Labour backbenchers would retch at the prospect of Tories jeering from across the benches, hollering that they have put right the injustice of Brown's 10p abolition. The Lib Dems would of course revel at the prospect of claiming that it is they who have dragged the government's tax strategy in a more progressive direction.

Could it prove possible to make any sort of move on both 10p and 50p? That would be a significant fiscal stretch. It will depend in large part on the state of the economy; though paradoxically, if things suddently get worse, measures that currently sound implausible could gain a new respectability. It will also depend on whether the Coalition is willing to raise compensating tax revenue in a way that doesn't tilt the economy downwards. For that reason it's significant that some Lib Dems are now briefing aggressively in favour of a wealth tax (as well as green taxes) - and that prominent Tories are pitching in their penny's worth, from outright hostility from some cabinet ministers to more thoughtful support from commentators.

Of course, as the debate heats up, other options will also rise to the surface. For all its economic and political superiority over a tax-cut for the very richest, there are reasons to question the reintroduction of the 10p rate. Some will argue, for example, that reversing cuts to tax credits would better target money to those most in need. The fiscal position, combined with an unwillingness to raise other taxes, may in the end scupper any move in the near future in any case. But wherever the debate ends up, one thing is already becoming clear as the summer wanes: this game of Westminster whispers is set to get a whole lot louder.

Gavin Kelly is Chief Executive of the Resolution Foundation. James Plunkett (twitter.com/#!/jamestplunkett) leads the Foundation's Commission on Living standards.

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UK election results: your guide to what's happened so far

Everything you need to know about the local and regional elections.

Scotland

  • To little surprise, the SNP will be staying in government at Holyrood as the largest party by an overwhelming margin.
  • Nicola Sturgeon’s party looks set to narrowly lose its majority, yet given that the electoral system intentionally militates against majority governments, that shouldn’t be an enormous shock.
  • It was a dreadful night for Scottish Labour. Despite winning Edinburgh Southern from the SNP, the party has almost certainly slipped into third place behind the Scottish Conservatives. Kezia Dugdale, the party’s sixth leader in 8 years, vowed to carry on as party leader.
  • The Conservatives, wiped out north of the border in 1997 and barely ever a force in Holyrood since 1999, are now the assembly’s main opposition. Ruth Davidson, the party’s leader, won a constituency seat in Edinburgh from the SNP. The party also took Eastwood, long a Labour stronghold – perhaps hinting at broader problems for the Labour party nationwide with Jewish voters.
  • The Liberal Democrats are not dead yet. Willie Rennie, whose campaign highlights included being interviewed in front of a pair of romping pigs and launching his manifesto in a soft play area, took the seat of North East Fife from the SNP, while his party also held seats in the Scottish islands comfortably.

 

Wales

  • Labour remains the largest party, albeit probably in a minority, and should govern alone fairly comfortably.
  • Leighton Andrews, a long-serving member of the Welsh government, was unexpectedly defeated by Plaid Cymru leader Leanne Wood in his Rhondda constituency.
  • The Conservatives failed to make significant gains, with party sources blaming the row over Port Talbot’s steel.
  • UKIP won its first seats in the assembly, picking up at least 4 assembly seats through the list, including former Kent MP Mark Reckless – with disgraced former Conservative MP Neil Hamilton also expected to win a seat later on.
  • Labour retained the Ogmore seat at Westminster in a by-election, with UKIP in seco nd place.

 

England

  • Labour have become the first opposition party to lose seats in midterm elections since 1985 – when Neil Kinnock’s Labour Party still lost fewer seats than the Conservative government.
  • That said, the party’s results were probably not quite as bad as some feared – the party retained control of Crawley and Southampton, though lost Dudley to no overall control.
  • The Conservatives gained some council seats, taking control of Peterborough council, but losing Worcester to no overall control.
  • UKIP became the joint-largest party on Thurrock council, drawing level with the Conservatives – and missed out on taking a further seat from the Conservatives by just 1 vote.
  • Labour won the Sheffield Brightside by-election, with UKIP in second place.
  • Joe Anderson won re-election as Mayor of Liverpool with more than 50 per cent of the vote.

 

London

  • The count for London Mayor and the Greater London Assembly began at 8am, with the result expected to be announced in the late afternoon.
  • Campaigners on all sides predicted record low turnout. 

Henry Zeffman writes about politics and is the winner of the Anthony Howard Award 2015.